Trillion Dollar Bond Sell-Off

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By Cameron Daniels

For those with a close eye on the market, it's hard not to notice a sharp sell-off in bonds following the most recent election. Your humble writer doesn't believe he can predict which ways the winds will blow in this regard but wanted to share what the potential causes are and what it could mean farther down the road.

One Trillion Dollars

An estimated $1.1 trillion in bond value was erased in the past week from the roughly $50 trillion that existed beforehand (a similar number increase in the stock market was seen). The increase in 30-yr yields for US Treasury was the largest since January 2009, in the throes of the financial crisis. The bond sell-off has extended to global markets: German bonds are now trading at the scorching yield of -0.64%!

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The major components investors weigh with bonds are default risk, inflation expectations and returns that are possible elsewhere. Considering the default risk of all the bonds didn't go up, the likely expectation is that investors are believing a more inflationary period is upon us. If this is true, dividend stocks will be hurt more than non-dividend (dividend yields are usually considered in comparison to a lower risk option).

Stock Valuation?

Many, many writers (DQYDJ included) have written skeptically about the stock market's valuations. I believe I am unable to fully predict future trends or the direction of the market, but one of the more compelling reasons for the high valuation is the valuation of other assets:

Bonds are overpriced; Real estate is overpriced; Emerging markets are overpriced; CDs yield 0.25%, etc., etc. The argument goes that stocks' future return expectations are diminished in comparison with other times with a much higher yield. Stocks, then, have two future headwinds to deal with: valuations of other assets (if interest rates rise, I'd imagine it would have some effect on real estate) and the expectation of inflation.

Should I Do Anything?

It's extremely difficult to predict what the short-term effect of a stock price will be due to very broad macroeconomic trend. It gets even more difficult the farther the prediction is in the future. Also, we may be overreacting to short-term fluctuations in the market so it's unclear whether this trend will continue. Overall, it might be much ado about nothing and this writer is not going to change anything at all in his portfolio.